co-published article Quarter- century perspective The World Bank is commemorating 25 years of its use of Australian dollars as a funding currency. Doris Herrera-Pol, director and global head of capital markets, and Andrea Dore, lead financial officer, at the World Bank, take the opportunity to share the insights that come from being one of the market’s most experienced borrowers.
s a large, frequent borrower, the World currency borrowing transaction – the other currencies being Bank strives to diversify its sources of cost- Deutschmarks, Dutch guilders, French francs, and yen – competitive funding as well as to establish a aggregating about US$250 million equivalent and arranged by a strategic presence in key markets. The World group of European, Australian and Japanese cooperative banks Bank taps different currencies, markets from the UNICO Group (see termsheet on facing page).2 This and maturities, and issues a variety of debt AUD bond was the first by a supranational entity. After a repeat products to appeal to investors around the appearance by the World Bank, EUROFIMA and Nordic Aglobe. In its nearly 65 years of history in the capital markets, the Investment Bank followed with AUD bonds in early 1987.3 World Bank has issued bonds in 54 different currencies. The The market continued to grow quickly during the late Aussie dollar was the 22nd currency tapped by the World Bank, 1980s. Thanks to the development of a buoyant cross-currency and this year marks the 25th anniversary of the bank’s first swap market, international issuers could swap the proceeds of Aussie dollar bond issue. these transactions into their home currencies and, in doing so, Since 1986 the bank has issued more than A$50 billion achieve cost savings given the tremendous pent-up demand. (US$51 billion) in AUD-denominated bonds, making the European investors rushed to the sector, lured by the currency one of the top five borrowed by the institution. Our high nominal interest rates the currency offered – AUD rates Australian dollar funding history is marked by quite distinct oscillated in the 12-16 per cent range, at a time when interest phases which we recap in this article, concluding with our rates for Deutschmarks and Swiss francs were around 5-8 per perspective on where the market may go from here. cent and 3-6 per cent, respectively. Initially, the euro-Aussie market was the domain mostly of The 1980s: the early years – European retail investors – the proverbial Belgian dentists and a rollercoaster ride German widows. In the case of the World Bank, Italian retail he AUD became a freely convertible currency in 1983, investors were also an important factor because they enjoyed and an offshore market began to flourish soon after. The a withholding tax exemption on their World Bank interest T early issuers were Australian borrowers reaching out to international investors, followed by a number of non-Australian “Initially, the euro-Aussie market was banks and, in 1985, the Swedish Export Credit Corporation.1 the domain mostly of European retail The World Bank’s first transaction, a five-year eurobond launched on February 26 1986, amounted to A$75 million investors. Institutional investors, and carried a 14 per cent coupon. It was part of a five- however, quickly caught on.”
16|kanganews n o v e m b e r 2 0 1 1 “European investors rushed to the sector in the 1980s, lured by the high nominal interest rates the currency offered – AUD rates oscillated in the 12-16 per cent range at a time when interest rates for Deutschmarks and Swiss francs were around 5-8 per cent and 3-6 per cent.” Doris Herrera-Pol Andrea Dore income. European institutional investors, however, quickly The 1990s: the Japanese didn’t waltz caught on and by 1987 at least half of each of the World Bank’s with Matilda AUD bond deals was being sold to institutional buyers. n the early 1990s the AUD lost some momentum as a result As was typical for a newly-developing market sector, of rising interest rates in the major European currencies. participants often experienced the thrill of a rollercoaster I Continental European demand remained stable until the ride. The AUD went through dramatic swings – virtually one international bond market crisis in 1994. currency ‘crisis’ per year – from the market’s liberalisation in Meanwhile, in Japan the Tokyo Stock Exchange crashed 1983 into the 1990s. over 1990-92 and real estate prices started to collapse from During the second half of the 1980s, the exchange rate their 1991 peak. The country fell into a deep recession and zigzagged from US$0.60 to US$0.89 per AUD (see chart on p18). Offshore investors would quickly switch from bargain THE WORLD BANK’S FIRST EURO-AUSSIE BOND hunting, buying AUD bonds when the Aussie dollar took a dip, to profit taking, selling AUD bonds when the currency appreciated. Because of this, the primary market was often closed for weeks if not months at a time, and it had a tendency to get congested when conditions turned around. Bob Graffam, lead officer for Australian dollar funding when the World Bank launched its second AUD eurobond in January 1987, wrote in a report: “Activity resumed at breakneck pace in the first week of January, with nine issues aggregating A$485 million launched in two days. The market showed clear signs of indigestion after the overdose of paper.” One notable trait of those early years was that the syndicate groups for bonds included as many as 40 banks, mostly European retail and regional banks. Underwriters had to use their balance sheets while the bonds trickled down the retail networks. A good deal could take about two weeks to be fully placed, a bad one could sit in underwriters’ books for several months. Many banks in the early AUD eurobond syndicates vanished through the merger and acquisition frenzy of the 1990s and other means: names like Hambros Bank – the unrivaled market leader in those years – Orion Royal Bank, ALSK-CGER Bank and NMB Postbank. Japanese banks were also represented in these syndicates, including names like Sumitomo Finance and Fuji International. However, the participation of Japan in the placement of bonds was not yet significant, accounting for not more than 5 per cent of total placement of World Bank bonds. By the end of the 1980s, the World Bank had raised A$1 billion through 10 eurobond transactions. Source: the world bank
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AUD-USD EXCHANGE RATE “The number and diversity of
0.90 investors buying Kangaroo bonds
0.85 have increased significantly – from
0.80 fewer than 20 investors in the World 0.75 Bank’s 2006 AUD benchmark to 0.70 more than 50 investors in some 0.65 of our most recent Aussie dollar 0.60 benchmark bonds.” 0.55
0.50 on this page). In addition, Japanese citizens were quite familiar 1984 1985 1986 1987 1988 1989 with Australia – it has been one of the top travel destinations
Source: Bloomberg September 2011 for Japanese tourism since the 1980s. And as a commodity- rich country, Australia also commanded tremendous attention AUD/JPY INTEREST RATE DIFFERENTIALS among Japanese investors for diversification purposes. By 1994 (5YR government bonds) Japanese buyers had taken over as the predominant investor base for Aussie dollar eurobonds. 700 The switch of the main investor base in the euro-Aussie s)
t market to Japanese from European was radical. Europeans 600 comprised the largest investor sector in five Aussie dollar eurobonds, totaling A$450 million, that the World Bank 500 launched between 1990 and 1994. But in 1995 all AUD bonds issued by the bank were placed solely with Japanese ial (basis poin 400 t retail investors. For the remainder of the 1990s, the euro- AUD league tables were dominated by Japanese institutions 300 ifferen like Daiwa, Mizuho, Nomura, Tokai Tokyo, and Yamaichi D International. The World Bank placed more than A$2 billion in 200 bonds among Japanese retail investors from 1995 to 1999. ec 91 ec 92 ec 93 ec 94 ec 95 ec 96 ec 97 ec 98 ec 99 D Jun 92D Jun 93D Jun 94D Jun 95D Jun 96D Jun 97D Jun 98D Jun 99D In parallel, during the 1990s the Australian authorities Source: Bloomberg September 2011 undertook a range of financial market reforms that opened up and institutionalised the domestic capital markets. For example, the Japanese government eased monetary and fiscal policies the retirement savings programme was made compulsory, to try to revitalise the economy. Domestic interest rates began foreign borrowers were allowed to issue AUD-denominated to fall sharply, and Japanese retail investors – with among the bonds in the domestic market under Australian law, and highest savings rates and wealth accumulation in the world overseas investors were made exempt from withholding tax. – turned massively to foreign currency bonds to enhance Foreign issuers started to tap the domestic market (during their investment returns. This led to the birth of the so-called the early 1990s those bonds were referred to as Matilda bonds), Uridashi market. A substantial share of this Japanese retail and the investor base was predominantly offshore institutional demand for foreign currency-denominated fixed income assets investors. There was some demand from Australian accounts poured into Australian dollars. but a major deterrent to local investor participation was that The allure of Aussie dollars for Japanese retail is easily these bonds were ineligible for the major AUD bond indices, or explainable. After 1992, AUD/JPY interest rate differentials as prime asset ratio assets for banks. became increasingly appealing at around 4-6 per cent (see chart In 1999-2000, the World Bank raised A$1 billion in the Australian market through one line that was tapped on three “As a commodity-rich country, different occasions. These benchmark bonds benefited from Australia commanded tremendous demand from a broad base of fund managers, pension funds and banks from Australia, Europe, Asia, the US and Canada. attention among Japanese investors for diversification purposes. By 1994 The new millennium – globalisation Japanese buyers had taken over as of demand for Aussie dollars n this past decade, demand for Australian dollars has come the predominant investor base for from all parts of the globe. In Japan, the AUD Uridashi Aussie dollar eurobonds.” I market continued to thrive as the factors that spurred
18|kanganews n o v e m b e r 2 0 1 1 demand in the mid-1990s remained in place. Additionally, annual total Kangaroo bond issuance the rapid growth of Aussie dollar money market funds in Japan provided another springboard for AUD Uridashi bond 40,000 demand. It allowed Japanese investors the flexibility to time 35,000 their conversion of AUD bond redemptions into yen or their 30,000 36,575 ) reinvestment into AUD bonds instead of realising losses if the 32,471 M 25,000 $ exchange rate had moved unfavorably. A 28,025 20,000 From 2003 to 2006, AUD was the second-largest currency 25,160 of issuance for World Bank bonds, accounting for nearly one- 15,000 olume ( 19,880 19,300 v third of the bank’s borrowing programme during the period. 18,250 10,000 In all, during this past decade the World Bank has issued 7,784 5,140 3,744 10,515 almost A$30 billion of Uridashi bonds. 5,000 3,520 In Australia, a diminishing supply of domestic Australian 0 government bonds gave rise to escalating domestic demand 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 ytd for AUD bonds issued by highly creditworthy foreign Source: KangaNews October 19 2011 issuers, nicknamed Kangaroo bonds. The Kangaroo market has provided an important source of local currency credit diversification for domestic investors. In 2000 the Reserve the World Bank’s Outstanding Aud Distribution Bank of Australia broadened the eligibility criteria for market Japan operations to include a wider range of bonds issued by foreign 11% North america governments and supranational institutions, like the World 6% Bank, and in 2005 UBS Investment Bank created a separate Europe australia supranational index for Kangaroo bonds. 8% 54% Elsewhere in the world, institutional investors took on exposure to the currency, many for the first time. The Asia number and diversity of investors buying Kangaroo bonds 21% has increased significantly – from fewer than 20 investors in the World Bank’s 2006 AUD benchmark to more than 50 investors in some of our most recent Aussie dollar benchmark Source: The World Bank October 2011 bonds. Additionally, the investor profile has changed from predominantly asset managers to a wide range of institutional The world bank’s outstanding kangaroo bonds investors, which includes many official institutions. The (showing increases) AUD, as the world’s fifth most traded currency, attracts many 1,600 central banks seeking diversification of their reserves. 1,500 1,400 900 The Kangaroo market was shaken by the global crisis 600 in 2008 but since then it has grown exponentially (see chart 1,200 ) 400 on this page). The market also suffered a setback at the M 1,000 $ 500 beginning of 2011 when the Australian Prudential Regulation A 800 Authority excluded Kangaroo bonds in its initial assessment 800 600 700 of level one or two assets for the implementation of the 600 Volume ( new global liquidity standard – known as Basel III liquidity 400 500 coverage ratio. 200 Since 2009 the World Bank has issued A$6 billion of Kangaroo bonds in five lines ranging in maturity from five 0 Oct 14 Feb 15 Nov 16 Oct 19 Oct 20 to 10 years (see chart on this page). There is a much higher level of engagement in the sector from Australian market Source: KangaNews October 19 2011 makers and underwriters, as well as the range of investors – both domestic and international. The global diversification of investor demand can be seen in the consolidated primary “For the World Bank, there have been market placement statistics for the five Kangaroo bonds more banks providing us advice on issued by the World Bank since 2009 (see chart on this page). the AUD market than for any other One of the notable changes in the past couple of years is the significant increase in the number of international currency, including US dollars, over participants in the Kangaroo bond market, which has also the past few years.”
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contributed to the globalisation of demand for Aussie dollar “The investor profile has changed bonds. The number of active intermediaries has increased from about 10 in 2006 to more than 20 today. Indeed, for from predominantly asset managers the World Bank, there have been more banks providing us to a wide range of institutional advice on the AUD market than for any other currency, investors, which includes many including US dollars, over the past few years. Because of these official institutions.” additional market participants, turnover in Kangaroo bonds has increased significantly. According to data published in the Australian Financial Markets Association’s 2011 financial the Australian government has committed to maintain a markets report, turnover in Kangaroo bonds was at its highest liquid Commonwealth bond market, its liquidity is likely to in 2010-2011, at A$142 billion. become under pressure simply by virtue of the sheer size of As the globalisation of Aussie dollar demand continues, prospective demand. the World Bank’s goal has been to provide quality assets in Supranational bonds can help fill this gap and continue this currency, to meet that demand. We make timing, pricing, playing an important role in domestic investors’ portfolios maturity and other decisions on the terms of our bonds based in Australia, including those of bank treasuries. Bonds issued on investors’ preferences and our funding requirements. We by the World Bank and other supranational issuers carry low have strived to maintain a full yield curve, increasing the sizes credit and market risk and have traditionally enjoyed flight- of our AUD benchmark bond issues over time so that our to-quality status. Our bonds offer a means of diversification outstanding lines are at least A$1 billion in size. for domestic investors due to their low correlation with domestic market alternatives. The primary and secondary Where to from here? market activity in our bonds is supported by a large group ustralia’s economy is expected to continue being of committed market makers, and the broad international one of the fastest-growing advanced economies investor franchise that also buys our bonds serves to enhance A in the world. The positive outlook is underpinned our bonds’ ability to perform well during times of volatile by a well-diversified economic base – including not only general market conditions. natural resources but also the manufacturing and service Australia is one of the key World Bank shareholders and sectors, exports to the growing emerging markets in Asia, one of its largest development partners. Over the past decade favorable terms of trade, and planned investments in we have worked closely with the Australian government infrastructure projects. across a range of sectors including climate change, food The government strives for fiscal discipline and has security, gender, education, and public financial management. one of the lowest debt-to-GDP ratios in the world, and the We have an office in Sydney, opened in 2000, which serves as lowest among industrialised nations. Over the next decade, the hub for our operations and projects in 12 Pacific nations. the fiscal position is expected to evolve from a moderate Side by side with the development partnership, maintaining deficit to a surplus. The government has proposed to a significant presence in the Australian capital markets is and maintain a government bond market equivalent to 13-15 will remain strategically important. • per cent of GDP. The financing needs of the states are also expected to remain relatively stable as a percentage of GDP in light of the commitment to fiscal discipline across the (*) The authors would like to thank Huy-Long Le, Heike whole government sector. Reichelt, George Richardson and Vanita Dewan (World Bank Meanwhile, Australian dollar bonds are very likely Treasury), Cathryn Carver (ANZ), Peter Christie and Simon Ling (Commonwealth Bank of Australia), Enrico Massi and Daniel to remain one of the key currencies of focus in the Chandler (RBC Capital Markets), and Adrian Bell for their inputs, diversification efforts of global central banks. Other comments and research. international investors will also be attracted to the market by Australia’s sound economic fundamentals. Australian Endnotes investors are also likely to have growing demand for (1) Robert McCauley, Internationalising a currency: The case of highly creditworthy investable assets. Thus, although the Australian dollar, BIS Quarterly Review, December 2006. (2) UNICO is an acronym for the Union of International Cooperatives. It was formed in 1977 as a network of cooperative “Australian dollar bonds are very banks by six major European cooperative banks. In addition to these banks, the UNICO group had a number of affiliated likely to remain as one of the cooperative institutions in other European countries, Australia, key currencies of focus of the Japan and Canada. At the time of launch of the World Bank’s first AUD bond, the Rural & Industries Bank of Western Australia was diversification efforts of global affiliated to UNICO. central banks.” (3) Source: Dealogic DCM Analytics database.
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